Solvency II Own Risk and Solvency Assessment (ORSA) July 2010

Transcription

1 Solvency II Own Risk and Solvency Assessment (ORSA) July 2010

2 Background

3 What is ORSA? ORSA is a collection of processes' and activities that continuously shall ensure the company s Solvency situation through risk identification, assessment, measurement, management and reporting (both short and long term). ORSA aims to help companies obtain a holistic view of their risk profile and understand how risks affect the future solvency situation. ORSA belongs to Pillar II and is an important part of the Supervisory Review Process. Solvency II Own Risk and Solvency Assessment (ORSA) 2

4 What is required by the ORSA? An ORSA will be required, irrespective of whether companies are using the standard formula or an internal model ORSA must be integrated in the business process ORSA must be forward-looking and take account of business plans and projections All material risks must be assessed. This includes, Risks covered by the SCR calculation Risks not covered or partly covered by the SCR calculation Risk mitigating measures Governance All assumptions used in the risk assessment ORSA must be developed by the company and be part of the day to day processes' ORSA must be conducted at least on a yearly basis Solvency II Own Risk and Solvency Assessment (ORSA) 3

5 What is required by the ORSA? (cont d) Companies must explain and justify Methods and assumptions In the risk assessments Results, including sensitivities in the results Appropriateness of the assessments and the model Data sources, systems and controls that affect the ORSA Method for parameter uncertainties The ORSA process and the results must be reviewed by an independent part Internal audit, external auditors or other independent reviewer Reviewed at least on an annual basis Solvency II Own Risk and Solvency Assessment (ORSA) 4

6 Some clarifications The ORSA, does not require an undertaking to develop an internal model is not a capital requirement different from SCR and MCR should not be too burdensome Source: CEIOPS Issues paper Own Risk and Solvency Assessment (ORSA) 27 May 2008 Solvency II Own Risk and Solvency Assessment (ORSA) 5

7 The ORSA is the process that delivers ongoing monitoring and management of the firm s solvency position Business objectives Risk strategy Strategy options valuations Capital strategy Capital plan Financial plan Business Strategy Strategic asset allocation Reinsurance/ hedge Management actions Projection horizons Actual vs Plan Risk Identification and Assessment Risk identification Qualitative assessments Controls assessment Risk ranking and classification Risk profile Risk management policy Solvency Assessment and Management Economic balance sheet Technical provisions Risk parameters and assumptions Own fund classification and assessment Stress/ scenario testing Capital fungibility Internal capital requirement Regulatory capital requirement Reconciliation Decision Making Regular monitoring of risk profile Solvency monitoring and management Risk appetite/ tolerance Frequency of assessment Support for strategic decisions Evidence of risk governance processes Disclosure External Environment Business context Emerging risks Long-term risks Macro economic environment Regulatory framework Legal framework Social trends PricewaterhouseCoopers LLP Slide 7

8 From a Pillar III perspective, the ORSA, a component of the SFCR and RTS, can be captured by qualitative and quantitative items 0 Pillar 3 disclosure SFCR (public) RTS (private) Qualitative items 1 The ORSA process Description and evidence of the governance (challenge, discussion, independent review and debate) inherent in the ORSA process 6 Quantitative items Point-in-time capital and solvency position The firm s point-in-time capital and solvency position along regulatory and economic dimensions 2 Integration into management processes Description of how the ORSA is embedded/integrated into the management processes, for example standing agenda item on Executive committee and integral to scorecard 3 Capital strategy Capital articulation of firm s desired amount of capital level to achieve a desired rating, for example AA for Group vs Solo entities 7 On-going assessment Methodology update to deliver position solvency requirement from pointin-time position, validation to ensure accuracy of results, and on-going improvement of approach through back-testing 8 Forecast capital and solvency position The firm s projected capital and solvency position over the planning period (3-5 year outlook) 4 Risk identification and assessment Description of how the firm is confident that the risk identification and quantification process is robust, comprehensive and forward looking. Process for identifying emerging risk and long term risks described 9 Stress & scenario testing The firm s future capital solvency position under a number of reasonable plausible stress tests and scenarios 5 Ad-hoc ORSA re-runs Process of setting triggers for complete re-runs. Formal presentation of ad-hoc event driven risk, capital and solvency assessments during the reporting period. 10 Capital plan The firm s capital plan under the base case and under adverse stress tests and scenarios. Items disclosed in RTS only Items disclosed in both SFCR and RTS PricewaterhouseCoopers LLP Slide 8

9 Qualitative disclosure must follow a pre-defined structure The structure of information required in common to two documents with RTS providing an additional level of granularity Both documents would need to be produced on a standalone basis as opposed to incorporating cross-references Both SFCR and RTS will require significant qualitative disclosure of Governance Risk management and Internal control Capital management including add-ons Internal models Financial information on performance and solvency balance sheet Firms need to determine optimal levels of public disclosure which protects commercially sensitive information while meeting supervisory standards on appropriate public disclosure around Internal models Financial information on performance and solvency balance sheet PricewaterhouseCoopers LLP Slide 9

10 The ORSA process The overall ORSA process is an opportunity to showcase the firm s overall risk management framework Clear evidence of ORSA responsibility Ongoing monitoring and reviewing A policy concerning the ORSA process should be proposed as part of the written policies on risk management The ORSA process is the responsibility of the insurance company The ORSA document should list the responsibilities of key personnel involved in the process Evidence of approval process is necessary The ORSA process should be regularly reviewed and approved by its administrative or management body It is imperative that the administrative body is actively involved in the review and challenge of the ORSA The ORSA needs to be independently assessed and the assessment must be fully documented Determination of capital strategy / capital adequacy Stress testing solution Validity of capital plan Efficacy of modelled management actions The ORSA can also be used as a reporting structure for various stakeholders Internal stakeholders Ratings agencies Investors communication Key input into Pillar III PricewaterhouseCoopers LLP Slide 10

11 Integration into management processes The ORSA should be leveraged in management processes and decision making framework for greatest value Alignment of ORSA and business processes Promotes more involvement of BOD as a standing item on key committees and through regular review and sign-off ORSA policy 1 Output of the ORSA process is a key source of information for decision making Key Personnel and responsibilities identified and formalised Regular training of the ORSA process and outputs For the ORSA to be fully integrated in the decision processes there needs to be systems and support of the ORSA process. The ORSA process should be simple and efficient with clear roles and responsibilities. We believe that the ORSA can add value to the business as a management tool and can be more than just a regulatory requirement. Firms that unlock the value of the ORSA and fully recognise it as management tool will be more successful at integrating the ORSA in their business processes 1 The ORSA can be defined as the entirety of the processes and procedures employed to identify, assess, monitor, manage, and report the short and long term risks a (re)insurance undertaking faces or may face and to determine the own funds necessary to ensure that the undertaking s overall solvency needs are met at all times -CEIOPS Issues Paper on ORSA PricewaterhouseCoopers LLP Slide 11

12 Risk identification and assessment Risk identification process should be robust, comprehensive and able to identify emerging and long-term risks Risk identification process (one-off) Plan and prepare One off exercise Identify individuals within business units for ownership of risk register Risk identification: 1.Using risk categorisation model 2. Supplemented with specific business knowledge Transfer mechanism Conduct risk and controls assessment (facilitated by risk management) Develop risk register software tool Populate software tool Aggregation Prioritisation Risk identification process (quarterly) Undertake quarterly process Emerging risks Identify, categorise and score risks Undertake risk assessment Management Evaluate attestation for controls key risks and controls Identify actions Review and challenge by RMC Risk distributions for use in internal model Risk assessment process Risk information visualisation study Lessons learnt Assess planned controls framework Trend analysis of heat map Scenario analysis of heat map Loss databases Focus groups Risk mgt Internal audit Risk mgt Risk mgt Record of risk events. List of losses, and near misses PricewaterhouseCoopers LLP Slide 12

13 Ad-hoc ORSA re-runs Formal presentation of ad-hoc event-driven risk, capital and solvency assessments during the reporting period Full review Initial assessment and impact effect on Risk, Capital or Solvency Position Material Assessment of impact Report to BoD Challenge & debate Material impact Issue revised ORSA report to regulator Event Partial review Iterative process Immaterial Actions arising Immaterial impact Include in annual ORSA report Frequency of monitoring between ORSA assessments should be associated with the size, volatility and complexity of the risks the frequency of business critical risk based decisions other reporting activities financial reporting, reserving, market statements, information to rating agencies management and regulatory views Firm needs to be in a position where it can assess its risk, capital and solvency position without delay following a significant change to it risk profile Definition of trigger points based on materiality Event driven assessments of the firm s risk, capital and solvency position need not always be ex ante: M&A activity New product launch May result in the formal submission of a revised ORSA report to the regulator as part of the normal regulatory supervisory relationship unless in the instances below: M&A opportunity declined Immaterial impact on risk, capital and solvency position Well within defined trigger points The regular ORSA report nonetheless provides an opportunity to present a summary: Keeps key stakeholders (regulator, ratings agencies) aware of the firm s more significant activities Evidences the firm s risk, capital and solvency management processes and procedures PricewaterhouseCoopers LLP Slide 13

14 Forecast capital and solvency position The firm s projected capital and solvency position over the plan period (3 to 5 year outlook) Outline of firm s projected risk, capital and solvency position based on its base case plan Planned business volumes (by product, line of business, geography etc) Changes in underwriting strategy (attachment points, terms and conditions, product design, reinsurance/hedging strategy etc) Changes in business model (e.g. outsourcing back / middle office functions leading to a different non financial risk profile) Reflects changes in wider external environment (e.g. macro economic environment, pricing cycle etc) Reflects firm s capital management strategy (dividend vs retained earnings, debt / hybrid maturity profile, own funds & ancillary funds evolution etc) Change in risk profile Sensitivity testing / what if analysis to assess credibility of projections bln Economic capital solvency coverage Legend: Own funds Economic capital Solvency coverage bln SCR solvency coverage Legend: Eligible own funds SCR Solvency coverage bln MCR solvency coverage % 200% 150% 100% 50% 0% 250% 200% 150% 100% 50% 0% 350% 300% 250% 200% 150% 100% 50% 0% Legend: Eligible own funds MCR Solvency coverage PricewaterhouseCoopers LLP Slide 14

15 Stress and scenario testing The firm s future capital / solvency position under a number of reasonably plausible (downside) stress tests and / or scenarios Results of firm s stress and scenario testing on risk, capital and solvency position Combination of single factor stress tests and more comprehensive scenario analysis Reasonably plausible stresses and scenarios Recognising firm s risk profile and specific vulnerabilities Can be upside scenarios too (e.g. new business volumes exceeding expectations) In light of current market conditions Cognisant of events / circumstances likely to be of interest to the regulator Presented on a pre- and post- management actions basis (allows regulator to assess reasonableness of proposed management actions) (1) PricewaterhouseCoopers LLP OF: Own Funds (2) RC: Required Capital (3) SC: Solvency Coverage Slide 15 Capital Equity shock De-risking Years Stress / Scenario-test before mitigation action Test no. / Description Qualitative impact In the Base Case, both Own Funds ( OF ) and Economic Capital ( EC ) grow Under Stressed Conditions ( equity shock ), mark-to market losses lead to deterioration of solvency coverage To maintain its rating, the institution must restore its solvency coverage which can be achieved through de-risking its portfolio Legend: 1. Equity shock Mark-to-market loss on equity leads to less available capital European windstorm 3. Major reinsurance failure Loss caused by nat cat diminishes available capital Higher required capital due to revaluation of risks Lower long-term discount rate (2%) 5. Liquidity crisis Higher required capital because of higher discounted cash-flows Capital not available in capital markets Stress / Scenario-test after mitigation action Test no. / Possible mitigation action 1. A.Unwind equity portfolio ( stop-loss ) B.Capital injection 2. A.Exposure capped through reinsurance 3. A.Buy CDS protection B.Issue catastrophe bond (as an alternative to reinsurance) 4. A.Change product mix to focus on quality B.Tighten limits, cut-offs and underwriting policies 5. A.Reduce dividends and defer coupon payments B.Reduce policyholders bonuses C.Cancel planned acquisitions OF Stressed OF % -23% -48% -18% -33% EC Stressed EC EC with mitigation action Quantitative Impact ( m) Regulatory Capital Economic Capital OF (1) RC (2) SC (3) OF RC SC % -24% -44% -14% -26% Quantitative Impact ( m) Regulatory Capital Economic Capital OF RC SC OF RC SC % % % % % % % -16% -3% -12%

16 Capital plan The firm s capital plan under the base case and under stress tests / scenarios Capital position & headroom Base case capital plan Capital plan under stress Outline of firm s current capital position (including headroom (1) ) Demonstrate capital flexibility Instruments Tier 1 OF (2) ( bln) Common share 5 Retained earnings 4 12-year non-cumulative fixed-term preference shares, maturity in Total 11 Instruments Tier 2 6-year cumulative preference shares, maturity in year fixed term subordinated liabilities, maturity in Unpaid non-cumulative preference shares 3 Total 9 Instruments Tier 3 3-year cumulative fixed-term preference shares, maturity in year fixed term subordinated liabilities, maturity in Unpaid cumulative preference shares 2 Total 7 Grand Total (Tier 1 + Tier 2 + Tier 3) 27 MCR non-eligible instruments 5 bln (4) 3 bln (5) (1) Headroom represents the amount of additional capital the firm is able to raise without breaching eligibility limits, based on QIS4 (2) OF: Own Funds (3) N/A: Not Applicable (4) Tier 2 MCR Tier 1 MCR, Tier X MCR being MCR eligible instruments in Tier X (Art. 98, Solvency II Proposal) (5) Tier 3 SCR ½ * (Tier 1 SCR + Tier 2 SCR ) (6) Tier 2 SCR + Tier 3 SCR 2 * Tier 1 SCR Headroom Unlimited ) 6 bln (6) Declaration of capital and solvency strategy (e.g. maintain a solvency margin of between % on an Economic capital basis Outline of firm s capital plan under the base case plan scenario Dividend policy / retained earnings Planned share buy backs Conversion of hybrids Planned Tier 1 capital issuances Maturity/ replacement/ retirement of hybrid/debt instruments Securitisation programme Development of headroom following earnings retention/ tier 1 capital issuances Capital raising options under stress / scenarios Reasonableness of capital plan in the context of stress / scenario Availability of capital Cost of capital Investor reaction Eligibility of funds under stress situation (retrenchment of Tier 1 capital) Debt and banking covenants Contingency plans Prior history / track record of proposed actions PricewaterhouseCoopers LLP Slide 16

17 Article 250: Optionality for groups There is a need to ascertain at which level will the ORSA be documented Group ORSA Regulated entity 1 Regulated entity 2 Regulated entity 3 ORSA ORSA ORSA Which levels will the ORSA be documented? Depending on: 1. Participating insurance or reinsurance undertaking or the insurance holding company s decision; and 2. Group supervisor s agreement ORSA assessments may be undertaken in the following manner: 1. At group level and at the subsidiary levels at the same time; or 2. Produce a single document covering all the assessments Note: In submitting a group ORSA, there is an additional requirement for the reconciliation between the group ORSA output to the sum of the solo ORSA of the individual regulated entities PricewaterhouseCoopers LLP Slide 17

18 What should be included in the ORSA?

19 Example of content in a ORSA document Summary Background Purpose and goal Responsibility Financial situation and Solvency capital situation Current situation > Market situation > Other larger planned changes within the next year (organisation, legal structure, owners etc.) Historic situation (numbers) > Mother company > Subsidiary X, Subsidiary Y, Subsidiary Z Business plan (numbers) > Mother company > Subsidiary X, Subsidiary Y, Subsidiary Z > Group level Solvency II Own Risk and Solvency Assessment (ORSA) 9

20 Example of content in a ORSA document (cont d) Risk- and Solvency Assessment Approach and Method Time period Risk identification and self assessment Description of material risks (including risk definition, risk management, risk quantification and capital tied up by the risk) > Market risk > Insurance risk > Counterparty default risk > Operational risk > Liquidity risk > Strategic risk > Reputation risk Capital situation (MCR, SCR, ORSA result and own funds (capital base)) Solvency II Own Risk and Solvency Assessment (ORSA) 10

21 Example of content in a ORSA document (cont d) Risk management (description of organisation, responsibilities etc) Description of risk tolerance and risk appetite Stress tests and scenario analysis Mother company > Weak recession, strong recession etc. Subsidiary X, Subsidiary Y, Subsidiary Z > Weak recession, strong recession etc. Group level Usage of the own risk and solvency assessment in the company Quality control and approval of the ORSA Future developments Appendix Reference documents (incl. Board minutes) Solvency II Own Risk and Solvency Assessment (ORSA) 11

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